Sharing the burden of greening: An innovative financial approach

While talking at the first SAFET4SEA Conference in Hamburg, Prof. Orestis Schinas, Professor of Shipping and Ship Finance at Hamburg School of Business Administration, talked about the problem of green finance, and shared advice for newbuildings and existing ships. Prof. Schinas noted that decarbonization comes with a price and operators or owners are challenged and faced with the burden.

Nowadays, we are in the middle of a turmoil that is full of choices too; those who have a choice have a problem! The key questions are: How can you select the best available option? How can you assess the best option?

Greening is boiling down to a very simple requirement. It is a requirement of reducing the annual emissions more than 50% of 2008 levels till 2050. In this regard, the first question is, what does it mean more than 50%, 60%, 70%, 100%? It is really an open question? But if one is in the loop of improving his/her green performance, then the only limit is the 100% reduction or elimination of the footprint for a fully decarbonised industry. Is this possible? Right now, it is not.

But given this requirement, what can one do? Let’s say, what the industry can do? The answer simply depends on the available time-horizon.

Let me start from the long-term perspective. The long-term option is market-based measures. This option is linked to the carbon price. We are getting into the era where carbon has a price. We are getting into the era that practically all pollutants, right now starting with CO2, carbon dioxide, are getting into our balance sheet. Forget the past. It is not a trend of the maritime industry; it’s a trend in the global economy. It is not a question if we like it or not. It is a requirement of the governments, it’s a top down policy that begins in Kyoto 1992, and evolves further. So, shipping is affected because external to the industry forces generated the need to comply.

Medium-term options are logistic-centric solutions; these options boil down to new ships, of ‘new’ size, ‘new’ speed, ‘new’ routes, ‘new’ trades. Especially, in the liner business and the coastal business, we expect new networks, new sequences of port calls and new ships, maybe not so big, not necessarily the ‘largest the better’, but the more environmental friendly and efficient; let’s say energy efficient ships will be the ones promoted. Why so? Because, we are talking about liner networks that won’t be only optimized vis-a-vis the cost but simultaneously against energy performance, the greening footprint. Many changes are expected from a technical and logistics point of view. It is an issue of financing; it is an issue of the market.

But the most difficult problem right now is how to comply in a short-term horizon. What can the industry do? And in this case the only available option is technology.

So, how can an operator comply? Different ships, different types, different needs, different challenges. Assume that we are talking about new buildings. Green ships or let’s say, ships of new technology, are faced with higher capital expenses. Higher capital expenses is a burden; the green ship is deemed not competitive. What can one do?

One is faced with technology risks; for example, what kind of equipment should be installed? If you install heaters, then you might have over-engineered ship, or you might have other technical risks. If you install a scrubber with a close loop then you have to have also technology on board in order to deal with the toxic waste of the scrubbers. I mean, these are technology risks, and of course, there is not a single solution; there is not one-size-fits-all solution.

A point that I fail to see in most reports; nobody says anything about the fuel price risks. Really what is the price of LNG? What is the price of LNG right now? If you ask me about heavy fuel oil, I can give you a couple of prices, I can give you a couple of benchmarks. I don’t have any LNG-benchmarks. I also cannot assess the future of LNG from geo-politic and geo-strategic point of view. All in all, carbon price is part of the equation. It is not yet there, it will be there very soon.

Regarding existing ships; if you already have ships in your portfolio what are you going to do with the ships? You need equipment to comply. What kind of equipment do you need? How are you going to finance all this equipment? Unless there is a substantial horizon, that in most reports is 5 to 7 years long, this equipment does not pay off. So, if you do not retrofit your ship, then your ship is excluded from the market. What is the benefit, the plus sign, that you have to put in your equation in order to balance the outlay of compliance? Use any criterion: NPV, IRR, whatever, you need a plus sign for your calculations to base your decision.

Who is facing the burden? the Owner or the Operator? I think, that there is no need to worry about it. The market answers this fundamental question, yet there is a financial burden that affects the accounting books.

What can you do for the CO2? installation of power boosting technology, i.e. devices that somehow reduce the energy requirements.

We can also consider the installation of carbon-capturing technology. Some of you may say that that is a technology of the future, maybe. But I do get some reporting that are already some testing, there is already some research progressing in this field.

There is also the other idea of using of carbon-free fuels. Which is also wishful thinking for the time being. But in all these cases we have to prepare ourselves for the carbon price.

So owners/operators or whoever is involved in decision should find a way to finance compliance. In most cases, they also try to pass the cost to the users.

How could one finance these challenges? What can one do? Assume that you have a new building, for example. What could be the mechanism of passing the cost to the users? Things are simple. Allow me, first of all to highlight a very simple way to passing the cost. Reduced port fees or dues. Many ports are already promoting this option; Hamburg is following this policy. Singapore is doing that too. Singapore and Hamburg and many other ports they formed port-alliances, and practically say to the operators: it is okay, you to call my city port with a green ship as you get reduced port-fees. Therefore, operators are faced with a motivation. They have a motive to call this port. But that means that the city of Hamburg or any other city is passing the cost of greening to the local community. So, we as taxpayers are somehow losing some revenues in order to support this greening. Is it plausible? Might be. It’s a political discussion.

Is it possible to find formulas that are fair and somehow objective? Yes, it is. A colleague and I have derived a formula, which is based on the capital expenses, on the fuel differential and the port use. Is it fair? Maybe. But once again, it’s a political decision that we have to face. In few words, it is easy to pass this custody community. The community is willing to take this cost in some cases.

The other idea, another mechanism of transferring the cost to the community, are all these sorts of export credit facilities. In Germany for example, we are very familiar with products of KFW; the same in Korea, in Japan, in China. There are many export credit agencies. What is the idea behind this mechanism? The idea is that these export credit facilities provide securities or loans in some cases in order to lower the weighted average cost of capital. Assume the dilemma between a green ship and a non-green ship; should the cost of acquisition be the same then the green ship should be promoted. The equalizing of the cost of finance makes the decision-maker indifferent vis-à-vis cost as criterion. The prudent owners will go for the green ship because it is friendlier to the environment and friendlier to the market. What is the big issue here? The big issue here is that all these export credit facilities are for the big players. If you have a look at the ticket of the most export credit facilities, we’re talking about over 100 million USD. Maybe in the future we’re going to have standardized small ticket credit facilities. The very same way we have in other industries. We don’t have it in shipping but assume something like a facility only for the financing of scrubbers or power boosting technology. This is possible and there are rumours that the Asians are already working towards this direction. Once again, part of the cost is passed to the tax payers. It is the tax payers in Germany the ones, who cover all the KFW costs and expenses and guarantees and enjoy all results. So far it is an investment that is working. So far. But once again, it is a political decision.

The last point I would like to highlight is a tool especially useful for existing ships. Assume that you have to install a scrubber, or any other new technology. What is the business model right now? Owners order and pay for the equipment, in most cases this is a solution with or without the support of the bank or any other financers.

The whole set of risks rest with the owners. Thus, the idea is that the owners have to pay only part of the cost at the beginning and then the rest of the obligation is somehow split over the future cashflows. That is the benefit. Assume that you have the benefit out of differential of fuel or carbon price; then the suppliers get something out of it and the owners get something out of it as well. This split gives motivation to both sides. The important element in this model is that owners have an assured risk approach as well as suppliers have a strong motivation to preform because the more the owners save, the better for both sides. These pay as-you-save models have already attracted our attention in a local ship finance lending platform. It is a novel way of finance equipment.

Wraping up, decarbonization is here. Expect carbon price to enter the books. There is not a single solution. We can rethink existing tools like export credit schemes or new tools like pay as-you-save models in order to go through the maze of compliance.

The views presented hereabove are only those of the author and not necessarily those of SAFETY4SEA and are for information sharing and discussion purposes only.

Orestis Schinas, Professor of Shipping and Ship Finance, HSBA

Schinas is the Professor of Shipping & Ship Finance and Head of the Maritime Business School at the Hamburg School of Business Administration (HSBA – www.hsba.de), since 2008. His department was recently awarded the premium quality seal, demonstrating top academic and organizational excellence. His professional career includes large corporate assignments, such as IPO and advanced research and business development projects, as well as start-ups and fintech endeavors in the fields of shipping and ship finance. He has gained experiences and offered his services in many sectors, regions and international organizations, and recently he was also appointed as Permanent Representative of a Member State to IMO. His work on marine bunkers, air emissions and energy efficiency of ships as well as on ports and infrastructure is published in renowned journals and collective works, while his book ‘HSBA Handbook on Ship Finance’ is also available in Chinese, reflecting the visibility of his work.